Fixed Interest Rate

Financial Dictionary -> Loans -> Fixed Interest Rate

On loans and other forms of credit, lenders charge interest, which is a percentage of the principal amount. By the end of the loan term the borrower will have paid back the principal amount, plus interest on top. The percentage of the principal amount used as interest is known as the interest rate.

With a fixed interest rate, the percentage of the principal amount does not fluctuate over the maturity of the loan, remaining the same as it did from day one, until the final payment. For example taking out a loan of $50,000 with a 4 percent fixed interest rate, means no matter what the fluctuations are in the economy, the interest rate will always be at 4 percent.

Borrowers may seek out a fixed interest rate on their loan because it enables them to calculate exactly what their monthly payments will be, and exactly the total amount they have to pay altogether. If they can lock in a fixed interest rate during a time when interest rates across the board are very low and the economy is booming it puts them in financially stable position should interest rates rise. In this situation it may turn out bad for the lender, if they cannot raise the interest rate in line with the economy.

Equally however, if a borrower gets a high fixed interest rate and interest rates drop, the loan may seem like a financial burden.

A fixed interest rate is the opposite of a variable interest rate. The latter has received criticism during the recent economic crisis as banks raised interest rates and many borrowers defaulted on their mortgages, losing their homes. It is the responsibility of the lender to assess the creditworthiness of the borrower before handing out a loan.